The great enabler complains about U.S. dominance of world financial system

The government-controlled press of mainland China is full of commentary criticizing the United States and advocating diminishing U.S. power over the world financial system.

Valid as the criticism may be in part, it is beyond ironic coming from the big enabler of U.S. irresponsibility, the biggest holder of U.S. government bonds.

As for the mainland Chinese press complaints about U.S. bullying of other nations, they may not be terribly persuavie d in Tibet or around the South China Sea, where bullying would be a polite description of mainland China's policy.

But the mainland Chinese commentaries are worth noting for their outlining a policy of China's gradual disengagement from the U.S.-centric financial system, so two are appended.

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As U.S. politicians of both political parties are still shuffling back and forth between the White House and the Capitol Hill without striking a viable deal to bring normality to the body politic they brag about, it is perhaps a good time for the befuddled world to start considering building a de-Americanized world.

Emerging from the bloodshed of the Second World War as the world's most powerful nation, the United States has since then been trying to build a global empire by imposing a postwar world order, fueling recovery in Europe, and encouraging regime-change in nations that it deems hardly Washington-friendly.

With its seemingly unrivaled economic and military might, the United States has declared that it has vital national interests to protect in nearly every corner of the globe, and been habituated to meddling in the business of other countries and regions far away from its shores.

Meanwhile, the U.S. government has gone to all lengths to appear before the world as the one that claims the moral high ground, yet covertly doing things that are as audacious as torturing prisoners of war, slaying civilians in drone attacks, and spying on world leaders.

Under what is known as the Pax-Americana, we fail to see a world where the United States is helping to defuse violence and conflicts, reduce poor and displaced population, and bring about real, lasting peace.

Moreover, instead of honoring its duties as a responsible leading power, a self-serving Washington has abused its superpower status and introduced even more chaos into the world by shifting financial risks overseas, instigating regional tensions amid territorial disputes, and fighting unwarranted wars under the cover of outright lies.

As a result, the world is still crawling its way out of an economic disaster thanks to the voracious Wall Street elites, while bombings and killings have become virtually daily routines in Iraq years after Washington claimed it has liberated its people from tyrannical rule.

Most recently, the cyclical stagnation in Washington for a viable bipartisan solution over a federal budget and an approval for raising debt ceiling has again left many nations' tremendous dollar assets in jeopardy and the international community highly agonized.

Such alarming days when the destinies of others are in the hands of a hypocritical nation have to be terminated, and a new world order should be put in place, according to which all nations, big or small, poor or rich, can have their key interests respected and protected on an equal footing.

To that end, several corner stones should be laid to underpin a de-Americanized world.

For starters, all nations need to hew to the basic principles of the international law, including respect for sovereignty, and keeping hands off domestic affairs of others.

Furthermore, the authority of the United Nations in handling global hotspot issues has to be recognized. That means no one has the right to wage any form of military action against others without a UN mandate.

Apart from that, the world's financial system also has to embrace some substantial reforms.

The developing and emerging market economies need to have more say in major international financial institutions including the World Bank and the International Monetary Fund, so that they could better reflect the transformations of the global economic and political landscape.

What may also be included as a key part of an effective reform is the introduction of a new international reserve currency that is to be created to replace the dominant U.S. dollar, so that the international community could permanently stay away from the spillover of the intensifying domestic political turmoil in the United States.

Of course, the purpose of promoting these changes is not to completely toss the United States aside, which is also impossible. Rather, it is to encourage Washington to play a much more constructive role in addressing global affairs.

And among all options, it is suggested that the beltway politicians first begin with ending the pernicious impasse.

China holds a significant portion, about $1.1 trillion, of its foreign reserves in debt issued or guaranteed by the US government. As the US' largest foreign debtor, China has every right to be concerned about the US government shutdown that started in Washington on Oct 1 and which shows no sign of ending.

After a short period of calm, debt markets started to show signs of nerves on Oct 5, with short-term US borrowing of one month's maturity offering a significantly higher yield than a week earlier. The increased return on short Treasury bills was necessary to persuade investors to lend money for one month to the US government.

A higher bond yield means a fall in bond prices that for debt maturities of more than five years can mean a loss on paper of 5 to 10 percent or more. Just a tremor in the US debt market can give China a paper loss of hundreds of billions of US dollars. A political earthquake in Washington could cost China a lot more.

According to the US Treasury Secretary, Jack Lew, Oct 17 is the date when the government can no longer pay its bills, without exceeding the debt limit set in 2011 by Congress, of $16.7 billion.

The possible outcome worrying the bond market is that no agreement will be reached between the Democrats and the Republicans by that date. Then, the US government would have to depend entirely on cash inflows from tax receipts and cut spending immediately by about 4 percent of GDP to balance its budget. The sudden pullback in government spending would amount to about $1.1 trillion, or 1.6 percent of world GDP -- a big enough shock to cause another world recession. With debt repayments amounting to more than 5 percent of current government spending, the US could stop making payments to its debt-holders. In other words, it could default on its debt.

The news of the government shutdown in Washington has been greeted by most onlookers and the global investment community with dismay. It has been described as irresponsible and childish. Yet the issues concerned are serious ones. Many Americans object strongly to the steady rise in US debt, which has risen from 55 percent of GDP in 2000 to 106 percent last year. Wars are expensive. The US military commitments in Iraq and Afghanistan are estimated to have cost $3 trillion.

But it was the financial crash in 2008 that really did the damage to the US balance sheet. The combination of an economic recession, which shrunk the economy and reduced tax receipts, and additional government spending to boost the US economy and rescue the banking system drove the annual US public deficit from 2.8 percent of GDP in 2007 to 13.3 percent in 2009. Even at today's historically low interest rate levels, the US payments of interest this year will amount to 2 percent of GDP. As interest rates rise, interest payments could double or triple.

What has saved the US, until now, has been the role of the US dollar as the world's major reserve currency, meaning that other central banks hold dollars as backing for their own currencies. The dollar plays a key role in the global financial system. It is still used in the majority of global trading transactions and is the currency used to quote the prices of commodities such as oil and gold. The US Federal Reserve can print as many dollars as it wants, something it has been doing since the crash of 2008. But if the US defaults, the dollar and the price of US debt will both collapse and China, which holds about $1.1 trillion of US debt, will suffer. How could the US remain at the heart of the financial system?

Ironically, the US government shutdown has been caused by politicians in the Republican Party who want to reduce spending and cut the US debt -- actions that help to restore the US' position as the keystone of the global financial system.

Many of the Republican politicians behind the shutdown come from the South, and they want to neutralize and destroy Obama. That is the reason why they object to Obama's 2010 Affordable Healthcare Bill, which is aimed at bringing medical care to 40 million poor Americans, and which came into force on Oct 1.

An irreconcilable divide lies at the heart of the breakdown between the two political parties. The US Constitution gives the Senate and House of Representatives considerable power over lawmaking. As Republicans control the lower house in Washington, they can force the government to shut down because they can deny it the authority to borrow more.

There have been many government shutdowns before in the US, as the parties have struggled with each other to agree on spending priorities and government borrowing. None has lasted more than a few days. This time, though, the shutdown could last much longer. The Republicans want to force Obama to give in to their demands - and they could go to extreme lengths to do that. They even welcome the idea that the US could default on its debts, if it helps them achieve their goals.

The US is still the country of the immigrant, a person who rejects established values and leaves his country to find a new home where he can enjoy freedom and independence. The balances inside the Constitution, whereby Congress can hold the president to account while the president can veto laws passed by Congress, were designed to prevent any one element of government from becoming over-powerful. The founding fathers succeeded in that aim, but they also created a foundation for constant struggle between the president and the two houses of Congress. At a time of economic weakness and decline, when firm leadership is needed both for the US and the world, political struggle may signal the end of the US' position as the dominant global financial power.

The issue for the major lenders who have a stake in the US' financial position, such as China, is whether the US is a trustworthy borrower and, beyond that, whether the US should occupy the dominant position in global finance that it does today. The made-in-America financial crash of 2008 was a direct result of the dollar's role as the global currency. This role forces the Federal Reserve to print dollars for export to other countries for use as a store of value and for business transactions. The creation of dollars far beyond its own needs encourages the US to over-borrow and overspend.

In 1945, the US was the only large country left standing with enough strength to support a world recovery after World War II. The principal architect of the post-war financial system, the British economist John Maynard Keynes, foresaw the dangers of having one country's currency used by the whole world. Instead, he wanted a world currency and imagined the International Monetary Fund to be the organization that could issue and manage it. But the US, then in the driving seat, wanted the dollar to reign supreme. Now, 70 years later, the dollar's supreme role is out of date. The guardian of the system has become too weak economically and financially to support the system.

China should gradually reduce its current dollar holdings as a matter of financial prudence and steadily work with others toward a new global financial architecture. Progress will be gradual and slow, because the US will not give up its dominant financial role without a struggle. But the government shutdown in Washington demonstrates that now is the time to start that process.

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The author is a visiting professor at Guanghua School of Management, Peking University. The views do not necessarily reflect those of China Daily.
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